Banks are damned by default

Australia’s banks are at risk of being dragged into the global quagmire as world markets fret that Europe’s debt contagion is spreading.

Shares in Australia’s banks on Friday plunged to the lowest levels since the financial crisis as the local sharemarket suffered its biggest one-day fall since January 2009, mirroring deep losses in Asia, Europe and the US.

Investors ditched shares in
ANZ
,
Commonwealth Bank
,
National Australia Bank
and
Westpac
on fears the global uncertainty would curtail already weak demand for loans and drive up the cost of funds the banks borrow on shaky international markets.

Macquarie Bank
slumped more than 7 per cent in its biggest one-day fall in more than two years.

Australia’s big four banks have little or no direct exposure to debt-laden countries in Europe, where concerns that the economic crisis which has already afflicted Greece, Portugal and Ireland would spread to Spain and Italy sparked the global sell-off on Friday.

However, banks in Europe are big lenders to the region’s troubled countries, meaning they would suffer significant losses if a country such as Greece were unable to pay its debts. If there were a default in Europe, the fear is the contagion would spread through the region’s banks and into the global financial system, pushing up the cost of borrowing for all institutions, including Australia’s big banks.

“If there was going to be a real fallout to the banking system globally, you would need an event like a Greek default to actually propagate that shock through the banking system," JP Morgan economist Ben Jarman said.

“I don’t think we are yet at the stage where there’s anything that would transmit a big enough shock [to] affect our banking system.

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“Right now it is just a negative wealth effect that affects the consumer and hurts business confidence."

Australia’s banks rely heavily on funds they borrow on international markets for the money they need to lend to customers. After being caught out during the financial crisis when the cost of offshore borrowing soared, the banks made a concerted effort to reduce their need for international financing.

The situation has been helped this year by the demand for home loans being at its weakest pace in 30 years, so banks have less need for money to lend to customers.

Still, Australia’s banks continue to depend on offshore financing for about 40 per cent of their funding needs. Each of the big four banks has to find between $20 billion and $30 billion over the next 12 months to refinance existing loans, part of which will have to come from offshore borrowing.

As Europe’s debt crisis deepened, the cost for Australia’s banks to borrow money offshore increased by between 0.1 and 0.2 percentage points over the past three months.

Although a more pronounced rise in funding costs would take a toll on Australia's banks, Credit Suisse analyst Jarrod Martin said the slow demand for loans meant they could afford to wait out the uncertainty without having to tap international markets.

“From a sentiment perspective, the bank’s share prices are going to reflect what the current view is on global sentiment," Mr Martin said.

“From a funding point of view, it needs to be put into perspective.

“If you look at credit growth it has been pretty subdued so the banks are unlikely to have to raise significant amounts offshore."

Macquarie led the falls among bank stocks on Friday, dropping 7.2 per cent to its lowest since March 2009. ANZ fell 3.7 per cent to the lowest since August 2009, and NAB and Westpac closed at their weakest since July 2009, losing 4 per cent and 2.5 per cent respectively. CBA fell 2.7 per cent to end at its worst since September 2009.